Telecoms threatens to become the banks' latest debt crisis

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The Independent Online

Is telecoms about to prompt a new banking crisis? Over the past few weeks regulators on both sides of the Atlantic have been sounding warnings about ballooning debt issuance in the telecoms sector. Market investors are getting scared at the prospect that banks have once again over exposed themselves to one supposedly sure-fire sector - just as they did in the 1980s with property - and are about to get burned in the same way.

Is telecoms about to prompt a new banking crisis? Over the past few weeks regulators on both sides of the Atlantic have been sounding warnings about ballooning debt issuance in the telecoms sector. Market investors are getting scared at the prospect that banks have once again over exposed themselves to one supposedly sure-fire sector - just as they did in the 1980s with property - and are about to get burned in the same way.

Over the past few days, bank stocks have shed most of the gains they made over the summer as the concern has spread, taking the main international stock indices down with them.

In the face of falling share prices, several major wholesale and investment banks have been forced to deny market reports of big losses on telecoms bond issues. On Tuesday after Deutsche Bank's stock was hit by rumours of difficulties placing a bond issue for Mainstream PCS, a cellular phone company, with investors, Edson Mitchell, the head of fixed income sent a memo to reassure staff. "I am happy to tell you we are continuing to increase market share during this difficult period while also exceeding our 2000 budget plan," he wrote. Morgan Stanley, and Credit Suisse First Boston, which is buying Donaldson Lufkin Jenrette, itself a big high yield player, have denied rumours of $1bn telecoms hits. But debt market insiders say there is no smoke without fire. One said yesterday: "If you have not lost money you are not a serious player in this market."

Officials at the Bank of England were yesterday congratulating themselves at their foresight in having discreetly drawn attention last November to the risks posed by the thousands of billions of dollars of loans extended worldwide to telecoms companies. With Barclays, HSBC and Royal Bank of Scotland all major players internationally it is no idle concern.

Such warnings have been echoed more recently by Sir Howard Davies, chairman of the Financial Services Authority and Wim Duisenberg, chairman of the European Central Bank.

In the 12 months to June, telecoms accounted for around half of the $20bn or so worth of sub-investment grade corporate bonds issued in Europe. In the US, the proportion was 70 per cent.

Thomson Financial, an industry database, says banks worldwide lent some $1,600bn through the syndicated loan market this year. Of that total $349bn or 21 per cent was extended to the glamourous technology, media and telecom-munications sectors. Since the first quarter of this year, bond issuance has slumped while credit spreads have shot up. The result is corporate bond yields for US telecoms companies are around 8 per cent above the benchmark US treasury bond yield, the size of the spread indicating serious distress.

The demand for funding shows no signs of abating, fuelled by the mounting costs of securing the coveted third-generation mobile phone licences. The winners in the UK and German licence rounds have had to find £60bn and there is still France, Spain and Italy to come. Salomon Smith Barney, the investment bank, predicts four cellular equity offerings in Europe alone this year. That is before taking into account British Telecom's mooted demerger which will lead to a public offering in Cellnet and overseas wireless assets.

This flood of paper is threatening to hit the market just as investors are realising that not only is traditional voice revenue falling off a cliff, but projections of huge pickings to be made from valued added services are proving widely optimistic. With the heavy investment of the last few years in network capacity now starting to come on stream, prices for bandwith have collapsed. Iaxis, one UK based network operator has folded.

Meanwhile investors are starting to wonder whether the money spent on third generation licences will ever be recouped. Regulators maintain that the drying up of bond market activity shows their warnings are being heeded. But Ian Linnell who has been monitoring the problem at Fitch, the credit rating agency, says that bankers are accusing regulators of causing just the kind of panic they wanted to avoid. He says the problem is now backing up into the syndicated loan market. Many banks have extended bridging finance in anticipation of being able to refinance at more sustainable rates through the high yield bond market and ultimately public equity offerings. If the market exit is blocked, banks will be left holding risk on their balance sheet that they had been counting on passing on to someone else, with potentially disastrous consequences.

For a while investment banks have been able to take the strain by taking some of the paper on their books. But they are starting to suffer as holdings are "marked to market" - in this case downwards as share prices in telecoms companies plunge.

Regulators say that banks are in much healthier shape now than 10 years ago when they sleepwalked into a property crisis that led to them being nationalised in Scandinavia and to huge rights issues in the UK.

In the US, the Basle safety cushion of regulatory capital to assets stood at 12.2 per cent at the end of last year, way above the minimum capital requirement of 8 per cent, while UK banks ended last year with a ratio of 12.7 per cent. Profitability remains high.

Optimists say that even if these loans turn sour, the banks are robust enough to take the strain. The trouble, as we have seen before, is that when one thing goes wrong, everything goes wrong..

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